Part 3 of 6 part fixed income educational series – XTBs the basics
3. XTBs: The basics
Over the past few articles we’ve looked at the fixed income asset class and concluded that investors at all stages of life should have some defensive assets in their portfolios.
We have also looked at corporate bonds and the benefits they can bring to a portfolio. We have also established that in the past they’ve been hard for most investors to access as they were not on ASX. We’ll now focus on how that has changed.
The development of an innovative access point to corporate bond returns on ASX, called XTBs, has made it simple for investors to incorporate the returns from corporate bonds into portfolios.
XTBs (Exchange Traded Bond units) provide access to the returns of individual corporate bonds on the ASX, which broadens their availability to all investors.
Buying XTBs on ASX is just like buying shares or exchange traded funds. Being on ASX gives XTBs the benefits of ease of access and transparency that comes with all ASX investments.
How do XTBs work?
XTBs are securities traded on ASX that bring together the predictable income and capital stability of corporate bonds, with the transparency and liquidity of the ASX market.
- They give you all the income and capital repayment of specific, individual corporate bonds – such as Telstra, Woolworths or BHP bonds.
- XTBs trade on ASX and their performance closely follows their individual bond performance in the wholesale market.
- For each corporate bond, a new XTB is quoted on ASX, each with its own ASX 6-letter code (all codes start with YTM e.g. the Woolworths XTB is YTMWOW).
- Each XTB has the same maturity date and coupon payment frequency as its corporate bond (e.g. a 3-year bond with a coupon of 5% translates to a 3-year XTB with a coupon of 5%)
- The corporate bonds are held in an ASX quoted Trust, with a custodian holding the bonds on behalf of the XTB investors.
- The XTBs available on ASX are 100% backed by the actual bonds. There is always a simple one-for-one relationship between the bonds in the Trust and the XTBs trading on ASX. The Trust does not own anything else and cannot borrow or lend the bonds.
- The Responsible Entity of the ASX traded Trust is responsible under the law to ensure XTB investor rights are protected and that all coupon and principal payments from the bonds flow through to XTB investors.
YTMQF3 is an XTB that gives you exposure to the following Qantas corporate bond:
Underlying issuer: Qantas Airlines Limited (QAN)
Maturity date: 19 May 2022
Coupon: 7.75% p.a.
XTB Yield to Maturity: [4.11% p.a. as at 26 May 2016]
It’s really as simple as that. The bonds themselves aren’t readily available to most investors, and XTBs are an ASX traded mechanism that translates wholesale market bond returns into an ASX traded opportunity that all investors can access.
Other key points and fees:
- The yield and price of each XTB will reflect the yield and price of the underlying bond, after fees and expenses.
- A core feature of fixed income generally and corporate bonds specifically, is capital stability and low or negative correlation with equities (i.e., they often rise when equities fall). This is a key reason they are defensive in nature.
- The full fee for XTBs is already incorporated into their price on ASX. The fees are 0.4% of the face value of the bond for the life of the bond, for fixed-rate XTBs and 0.2% for floating-rate XTBs.
- In 2016, most corporate bonds are trading at a premium to face value because interest rates are at an all-time low. Therefore, the XTB fee for fixed-rate XTBs ranged between 32bps and 37bps of the price of the XTB.
- The impact of the XTB fee is to lower the yield of the XTB compared with the bond. A corporate bond trading in the wholesale market at a yield of 4.8%, would become an XTB trading on ASX at about 4.4%. There are no other product fees payable. Brokerage paid to stock brokers is the same as other ASX listed securities;
- There’s no minimum investment amount for XTBs. You can choose to invest as little as around $100 in each XTB you select. ASX may impose a $500 minimum initial purchase. This gives you the control to build the corporate bond portfolio of your choice to meet your investment objectives.
Risks – What you should be aware of
As with all investments, there are risks of investing in XTBs. You should be aware of these before making an investment decision. They include:
- Credit risk (the risk the bond issuer defaults on coupon or principal payments)
- Liquidity risk (the risk you will not be able to sell your XTBs on ASX)
- Market risk (the risk of adverse market movements that impact the bond and XTBs)
- Trust risk (the risk the Trust and Responsible Entity structure fails)
What XTBs are available?
There are currently 39 XTBs available (6 floating-rate, 33 fixed-rate). They are from a broad range of larger ASX listed companies covering the majority of key industry sectors.
Our interactive table shows all the available XTBs. It allows you to filter selections to start to build a refined list of those that interest you. Under the table you will see averages for your selection. This provides a quick and simple way to see how your portfolio is taking shape and the average yield (indicative) it should provide.
- XTBs over corporate bonds are a capital stable and predictable income generating security available on ASX.
- They can deliver superior returns to Term Deposits ¹ without the price volatility of other alternatives, such as shares and hybrids.
- XTBs allow you to maintain control over your investment portfolio. They give you the ability to pick individual bonds from well-known ASX listed companies, in $100 minimums.
- XTBs provide predictable income that allows you to forward plan and match your outgoings with securities that meet those needs.
- All of this is available on the familiar and convenient environment of the ASX.
¹Term Deposits may enjoy the benefit of protection under the Financial Claims Scheme.